Canadian households increased their borrowing significantly. Canadians have now collectively run a net financial deficit for more than a decade, in effect, demanding funds from the rest of the economy, rather than providing them, as had been the case since the Leafs last won the Cup.
Developments since 2008 have reduced our margin of manoeuvre. In an environment of low interest rates and a well functioning financial system, household debt has risen by another 13 percentage points, relative to income. Canadians are now more indebted than the Americans or the British. Our current account has also returned to deficit, meaning that foreign debt has begun to creep back up...In other words, households are chasing diminishing returns and the point at which this debt will be impossible to properly service is a looming risk.
Our strong position gives us a window of opportunity to make the adjustments needed to continue to prosper in a deleveraging world. But opportunities are only valuable if seized.
First and foremost, that means reducing our economy’s reliance on debt-fuelled household expenditures. To this end, since 2008, the federal government has taken a series of prudent and timely measures to tighten mortgage insurance requirements in order to support the long-term stability of the Canadian housing market. Banks are also raising capital to comply with new regulations. Canadian authorities are co-operating closely and will continue to monitor the financial situation of the household sector.
To eliminate the household sector’s net financial deficit would leave a noticeable gap in the economy. Canadian households would need to reduce their net financing needs by about $37 billion per year, in aggregate. To compensate for such a reduction over two years could require an additional 3 percentage points of export growth, 4 percentage points of government spending growth or 7 percentage points of business investment growth.
Any of these, in isolation, would be a tall order. Export markets will remain challenging. Government cannot be expected to fill the gap on a sustained basis.
But Canadian companies, with their balance sheets in historically rude health, have the means to act—and the incentives. Canadian firms should recognize four realities: they are not as productive as they could be; they are under-exposed to fast-growing emerging markets; those in the commodity sector can expect relatively elevated prices for some time; and they can all benefit from one of the most resilient financial systems in the world. In a world where deleveraging holds back demand in our traditional foreign markets, the imperative is for Canadian companies to invest in improving their productivity and to access fast-growing emerging markets.
This would be good for Canadian companies and good for Canada. Indeed, it is the only sustainable option available. A virtuous circle of increased investment and increased productivity would increase the debt-carrying capacity of all, through higher wages, greater profits and higher government revenues. This should be our common focus.
Carney is pleading with businesses to invest to make up for what household spending has done in the past 3 years (and longer), in part by expanding enterprises away from Europe and the United States where growth prospects look anaemic. It appears that increases in -- or even the maintenance of -- the average household debt-to-income ratio will be a trigger for further tightening of credit availability.
Carney has also provided confirmation that banks are increasing their capital reserves for household loans, which means less credit will be available going forward and banks will need to be more selective in the loans they make. It is unclear what criteria banks will use to ration their loans but may involve regional considerations, as was done by HCG earlier this year.
The Bank of Canada is trying, with the limited tools it has available, everything it can to get businesses to spend. If businesses do not spend the burden will be borne by households and governments and this, in Carney's view, is the outcome most likely to lead to subpar (or negative) economic growth. The federal government has been attempting to facilitate private investment through tax breaks and other investment programs, but now Carney, at least, is appealing to patriotism. That is a wonderful stance in principle.